Layoff and firm long-term performance.

Author:Scott, Brad G.


Downsizing is "the planned elimination of positions or jobs" (Cascio, 1993, p. 96). A key question in corporate restructuring is what role downsizing plays, and why firms' announcements are met with different stock price reactions. A downsizing action may signal organizational decline or may be part of an overall restructuring effort of management for future productivity and profitability improvements.

According to many financial publications, the announcements of downsizing actions are met with positive responses by investors (1) (Bleakley, 1995; Downs, 1995; Fefer, 1994; Lesly & Light, 1992; Seglin, 1996). Recently, however, casual observers are reporting that many companies which announced downsizings have not reached anticipated goals, and in fact, may be worse off than before the action as expected benefits do not come to fruition (Fefer, 1994; Lesley & Light, 1992; Margulis, 1994). Although there are success stories such as AT&T2 (Bowman & Singh, 1993), some downsized companies are met with deteriorating productivity from low morale survivors (Cascio, 1993; Lee, 1992; McCune, Beatty, and Montagno, 1988), or with insufficient workers to meet market demand (Markels & Murray, 1996; Wyatt, 1994). Even though downsizing actions are widely observed, academic literature is sparse on this form of business restructuring.

Workforce layoff has become commonplace in American businesses over the last 20 years. While these actions are typically undertaken to improve firm performance and competitiveness, empirical research to date has been equivocal in supporting the efficacy of these initiatives (Guthrie & Datta, 2008). The purpose of this paper is to investigate long-term stock price performance, of firms that announce downsizing actions. In this study, the wealth effects, if any, are to be examined by investigating the long term stock price performance of firms that downsize.

Past research indicates that the overall market reaction for downsizing/layoff announcements is slightly negative and the returns are statistically significant. Additionally, long-term stock price performance can be tested to verify whether buy-and-hold returns are consistent with short-term performance results. Goins and Gruca (2008) study the impact of layoff on key stakeholders and their results suggest that reputation effects of layoff announcements spillover beyond the announcing firm and extend to other firms in the industry.

The motivation of downsizing firms may be quite different among those firms. A downsizing announcement releases information to the capital markets about the future opportunities available to the firm. On one hand, a downsizing may signal a reorientation, for purposes of restoring or improving competitiveness. Alternatively, a downsizing may signal an effort by management to stymie, or lessen the depth of, organizational decline. Examination of short-term and long-term returns may provide information regarding how the market interprets the announcement of those firms.

Market reaction of firms which downsize could possibly be just an unbiased reaction. That is, half of the firms have positive reactions and half negative reactions, with an overall result being no reaction. Conversely, firms with positive reactions may have systematic differences with the negative reaction firms.


Events from the years 1990 to 1992, inclusive, were used to develop a sample. This period is clearly past the enactment of the Worker Adjustment and Retraining Notification (WARN) Act of 1988, which was part of the time period studied by Iqbal and Shetty (1995). The WARN Act of 1988 requires companies to provide a 60-day advance notice of plant closings and layoffs. Worrell et al. (1991) looked at layoffs in the pre-WARN years 1979-1987. Iqbal and Shetty (1995) found that passage of the act had little effect on stockholder reactions. The sample is drawn from the firms which make up the S & P 500 index. Guide database. The S & P 500 accounted for 69% of the database's capitalization" (Standard & Poor's, 1995, p.6) . Firms on the S & P 500 make up roughly 70 percent of the capitalization of the U.S. equity stocks (Standard and Poor's, 1995), and therefore fairly represents the top deciles of the market as a whole, as well as the most actively traded stocks.

Only companies that are part of the S & P 500 in 1988 are included in the study. This restriction is necessary to avoid a survival bias that choosing later periods may introduce. A company that is part of the 1988 S & P 500 will be included, provided they...

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